Interdependence and Performance: A Natural Experiment in Firm Scope

Section: Discussionmentioning

confidence: 99%

The impact of diversification on task performance: Evidence from kidney transplant centers

Parker-Lue

Lieberman

2020

“…As a result, the process of updating the routines and capabilities that create such interdependencies is likely to be difficult, time consuming, and costly to the remaining divisions within the firm over a longer time horizon. As evidence in support of this point, Natividad and Rawley () show, in the context of the Peruvian fishing industry, that firms continued to deploy their ships in a manner consistent with multi‐activity firms for several months following a regulatory ban that exogenously reduced the scope of their related activities. Similarly, Feldman () finds that legacy divestitures are negatively associated with the divesting firms' operating performance for up to 4 years after refocusing events due to the disruption of historical interdependences that developed between legacy businesses and their sister divisions.…”

Section: Theory and Hypothesesmentioning

confidence: 97%

“…Applying the insights of the literature on related diversification to refocusing suggests that removing a business that is more closely related to its sister divisions will be more costly than removing a business that is less closely related. Clearly, refocusing reduces a firm's ability to share common resources, such as knowledge, capabilities, and operating processes across businesses (Feldman, ; Natividad & Rawley, ). However, when a firm refocuses by removing a business that is less related, the extent of synergy destruction should be less pronounced, since capabilities, routines, and knowledge are shared less intensively.…”

Section: Theory and Hypothesesmentioning

confidence: 99%

The costs of refocusing: Evidence from hedge fund closures during the financial crisis

Figueiredo

Feldman

Rawley

2019

Self Cite

However, refocusing can also reduce economies of scale and scope, and will often impose direct operational costs associated with the refocusing event itself. Although recent research has acknowledged that refocusing may impose costs on firms (Alaix, 2014; Feldman, 2014;Wiedner & Mantere, 2018), there are major conceptual and empirical gaps in our knowledge about refocusing costs.Conceptually, there is a lack of clarity surrounding where refocusing costs come from, which limits our ability both to fully characterize the implications of an important corporate strategic decision (i.e., scope reduction) and to advise managers on how to mitigate these costs. As such, in this paper, we argue that there are two broad mechanisms that drive refocusing costs. First, refocusing may destroy synergies, whereby businesses are no longer able to share overlapping activities and operations. Second, refocusing may create adjustment costs, whereby the common management activities that underpin the functioning of the entire organization are temporarily impaired. We therefore characterize and investigate the mechanisms driving refocusing costs along two dimensions: the degree of relatedness between the business that has been removed and its sister divisions, and the duration of time over which refocusing costs persist.Empirically, testing theories about refocusing is challenging because selection effects make it difficult to measure refocusing costs. When managers choose to refocus, the benefits of doing so typically outweigh the costs, obscuring a researcher's ability to observe such costs by looking at performance data. Thus, one possible interpretation of the finding that endogenous refocusing is associated with an improvement in operating performance is that although the benefits of refocusing outweigh the costs, some costs of refocusing are present whenever managers choose to refocus. Employing some simple notation to clarify what "costs" means, we denote the gross benefits of refocusing (GB) as the operational gains associated with a reduction in firm scope, and the gross costs of refocusing (GC) as any associated cost that offsets the gross benefits of refocusing. Thus, the net implications of refocusing (NET) are GB − GC. If managers only choose to refocus when there are net benefits of refocusing, meaning that NET = GB − GC > 0, one will not be able to measure GC by studying the relationship between refocusing and performance, even if GC > 0.A key empirical question then becomes how to measure the costs of refocusing. Notably, when exogenous factors force managers to reduce the scope of the firm, it means that the equilibrium conditions for positive net performance implications of refocusing do not hold. Thus, when exogenous refocusing takes place, one might expect there to be net costs of refocusing-in other words, NET = GB − GC < 0-and, therefore, refocusing should be associated with a decrease in operating performance. Thus, we test our theory of refocusing costs by inferring the net costs of refocusing from decreases in...

“…These costs stem from the inherent difficulty of adjusting and transferring resources across product categories (Hashai, ). Adjusting routines is difficult due to a cognitive tendency to transfer unchanged routines and practices between domains even though adaptation is required (Kor & Leblebici, ; Zahavi & Lavie, ); to organizational rigidity (Rawley, ); and to complementarities that are difficult to modify (Natividad & Rawley, ).…”

Section: Theory and Hypothesesmentioning

confidence: 99%

“…While the logic of expanding product variety by leveraging key resources has been gradually confirmed and agreed upon (Neffke & Henning, ; Wan et al., ), there has been increasing interest in uncovering the causes and nature of the different costs of diversification. The extant literature has identified several sources of diversification costs, which we broadly classify as “agency costs”—the costs of increased misalignment in decision making as the firm's scope expands—(Gartenberg, ; Pierce, ; Shaver & Mezias, ), “coordination costs”—the costs of coordinating interdependent business/product units—(Zhou, ; Zhou & Wan, ), and “adjustment costs”—the various costs of adjusting and transferring practices and routines into the new product category (Hashai, ; Kor & Leblebici, ; Natividad & Rawley, ; Rawley, ; Zahavi & Lavie, ).…”

Section: Introductionmentioning

confidence: 99%

The Impact of Frictions in Routine Execution on Economies of Scope

Brahm

Tarziján

Singer

2017

Research summary:Based on a detailed database of a beverages producer-distributor that expanded its product variety by leveraging its logistic network, we show that product diversification generates economies of scope and also higher operational costs. The result is an inverted-U relationship between variety and productivity: When the firm offers few additional categories, productivity grows, but as the number of categories rises, the costs of executing the operational routines increase rapidly and productivity falls. The negative effect on productivity increases if the added product category is more dissimilar to previous ones, and decreases with learning from operational experience. Our results highlight how frictions at the operational level can limit the benefits of diversification, even in the absence of other sources of diseconomies, such as increased coordination needs.Managerial summary: One of the prevalent reasons for companies to expand to adjacent product lines is attaining economies of scope. However, such growth strategy also generates operational frictions, even if the day-to-day routines do not appear to change at all. Product diversity is disruptive for routine execution, as it requires coordination and exception handling, and may ultimately overcome any efficiency obtained from growth. We estimate the relevance of such operational friction using data from a beverages distribution network. When product variety is low, additional categories do generate efficiency, but after reaching a given threshold, friction prevails. We find that operational friction increases when products are more dissimilar, but is attenuated when workers learn from their own and other's experience.